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Stock Screen: Highest Yielding Master Limited Partnerships - November 11, 2011
There are certain places that investors can look in order to find issues that consistently offer above-market yields. Some investors just look at specific industries, like utilities or financials, to find high-yielding stocks. Others, however, look to certain types of securities with unique legal structures, like real estate investment trusts (REITs), or in this case, master limited partnerships (MLPs), to fill their income needs.
Stated simply, a master limited partnership is a publicly traded limited partnership. MLPs have two separate partners, a general partner and a limited partner. The general partner runs the company’s operations and holds all the voting power, while the limited partner provides the capital and reaps the benefits of the distribution payments. Indeed, an MLP’s “shares”, which are called units, are publicly traded and make up the vast majority of the partnership. They also comprise the limited partners’ stake in the entity. The general partner, on the other hand, is paid for its efforts via a management fee, which is typically 2% of distributable cash flow, plus incentive distribution rights (IDRs) once limited partner cash distributions exceed a certain level per quarter.
The high yields normally offered by MLPs stem from their legal structure. For tax purposes, MLPs are known as pass though entities. This structure is geared toward the distribution of profits and, legally, MLPs must pass along the vast majority of their earnings to the limited partners. The tax law considers limited partners to be owners of the partnership’s assets. Consequently, they are taxed on their proportionate share of the partnership’s taxable income, calculated according to IRS rules, not generally accepted accounting principles. This structure helps MLPs avoid direct federal and state corporate income taxes, allowing these companies to pass larger distributions to their “partners” (i.e. unit holders). Because of the complex nature of these securities and their unique tax implications, investors may want to consult their tax advisors before investing in MLPs.
Of course, some MLPs are geared more toward income than others. To create our list, we used the online screening tools of The Value Line Investment Survey to highlight those MLPs with the highest dividend yields. While this list is a good jumping-off point for income-oriented accounts, investors should keep in mind that above-average yields can sometimes be a sign that a company is in trouble or that the dividend payment is at risk. On the other hand, a high yield may just as easily signal a good buying opportunity if a company is merely misunderstood. Our screen returned several interesting names, including Enterprise Products Partners, L.P. (EPD), Alliance Resource Partners, L.P. (ARLP) and StoneMor Partners L.P. (STON).
Enterprise Products Partners is a leading integrated provider of natural gas and natural gas liquids processing, fractionation, transportation, and storage services in the United States and Canada. The company operates in five segments: NGL pipelines; onshore natural gas; crude oil; pipelines & services and offshore pipelines & services; and petrochemicals & refined products.
Operating conditions remain favorable for Enterprise Products Partners. The partnership is well positioned to capitalize on several important structural changes in the broader sector. First, onshore oil and gas production from shale basins is expanding quickly. This increases the need for throughput, and EPD is boosting capacity to meet this demand. Second, low natural gas prices resulting from oversupply is keeping NGL-derived feedstocks cheaper than oil-derived naphtha, which is lifting volumes and profits at Enterprise’s NGL fractionation unit. Third, wide price differentials between Cushing-based crude oil and Gulf Coast oil, although constrained by some pipelines that move crude or refined products to the mid-continent, is boosting demand for EDP’s storage services. Given these positive trends, we look for the partnership to continue lifting its dividend over the 3- to 5-years ahead. The current 5.7% payout is well covered by available cash.
Alliance Resource Partners is a limited partnership engaged in producing and marketing coal, primarily to major U.S. utilities and industrial users. The partnership has about 713 million tons of coal reserves in Illinois, Indiana, Kentucky, Maryland, Pennsylvania, and West Virginia. The partnership’s mining activities are conducted in three regions: Illinois Basin, Central Appalachia, and Northern Appalachia.
Alliance Resource Partners should benefit from relatively strong coal consumption. Much of that demand is coming from Asia’s twin giants, China and India, which together burned through nearly 250 million tons in 2010. With regional industrial activity on the upswing and their infrastructure projects moving ahead, the two countries are on pace to top 275 million tons this year. Meantime, supply and demand conditions continue to improve on the domestic front. After rising to near-historic levels during the downturn, coal stockpiles at power producers have declined significantly, and are likely to regress further both this year and in 2012. However, it will likely be a smaller increment than we previously expected, owing to an uneven domestic economy. The partnership recently boosted its distribution (currently yielding 5.15%), and we look for further hikes down the road, given probable strong cash flow from operations.
StoneMor Partners is the second-largest owner and operator of cemeteries in the United States. It manages 235 cemeteries, located primarily in the eastern U.S. and Puerto Rico. The company owns most of these cemeteries and operates the remaining few under long-term contracts. It also owns and operates 58 funeral homes. The company sells burial lots, lawn, mausoleum crypts, cremation niches, burial vaults, caskets, grave markets, memorials, and installation services.
StoneMor posted solid results for the June period, with earnings per unit of $0.04. The jump from the steep loss posted in the prior quarter was primarily due to the acquisition of several cemeteries and funeral homes. Hence, we now look for the partnership’s loss for this year and next to be less than we initially envisioned. The partnership has been on an acquisition spree in recent months. StoneMor closed on three cemeteries and four funeral homes in the June period. Acquisitions are often the quickest and easiest way for funeral service companies to expand their customer bases and boost revenues and earnings. The partnership has a strong balance sheet, and is thus in a good position to capitalize on the fragmented nature of this industry. We look for StoneMor to continue to increase its distribution payout (which currently provides a yield of 8.11%) in the years ahead. The partnership is unique in that it pays out distributions from its Merchandise and Perpetual Care trusts. Thus, it is not constrained by the oscillations in its cash flow position.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.